Regulatory Storm Brews for ETFs

A regulatory storm is brewing on the horizon, and the first drops of doubt are beginning to fall on the ETF industry. Both brokers and issuers are running for cover before the skies open up. Lawsuits, like lightning, could strike at any time, singling out a firm from the herd and driving deep cracks into the industry floor.

Starting with a small firm called Edward Jones, brokers have bowed out of the leveraged ETF arena. Despite increasingly revealing warning labels, the wrong kinds of investors continue to get dragged into ultra-long or triple-down funds.

Like many medications, leveraged ETFs were designed to treat specific conditions. Daily leveraged funds like Direxion's Daily Financial Bull(FAS Quote) or ProShares UltraShort Financials(SKF Quote) are designed to be used with existing portfolios to provide hedging capabilities. Long real estate? Hedge your portfolio over a single trading day with the purchase of ProShares UltraShort Real Estate ETF(SRS Quote).

These useful remedies, however, can sometimes fall into the wrong hands or be taken for the wrong reasons. The heady rush of being ultra-long or ultra-short has proven to be a temptation too great for some investors who rushed to their brokers to get their fix. Once difficult to access, these strategies have been made available by the structure of ETF products.

The Hippocratic oath of doctors does not extend to the offices of Wall Street, and questions have been raised about the dispensing of these ETF products. Not wanting to be seen as irresponsible drug dealers, brokerage firms are washing their hands of leveraged ETFs before the financial DEA comes knocking. Firms like UBS(UBS Quote) and Ameriprise(AMP Quote) have bowed out of the leveraged ETF business.